A guide to trusts and divorce

What happens to a trust’s assets during divorce? Without appropriate planning, it can mean complex litigation. Martin Hill explains the basics.

An increasing number of people are being advised to enter into trust arrangements to save on inheritance tax and give flexibility to family arrangements for future generations. But what happens when a husband and wife set up a trust together and then decide to live apart?

Usually once the trust is executed, that is an end to the matter. Or at least it would be if it were not for the increasing amount of people divorcing in the older generations, as people are living longer. It is too easy to believe that when divorcing the trust assets will be excluded, but that isn’t the case.

The nuptial trust settlement

A trust is “nuptial” if it was set up in contemplation of marriage. This is when a married couple decide to put some or all of their property into a trust for their children, grandchildren and for wider beneficiaries such as charities. Of course this is fine, but the court does retain full jurisdiction to vary the terms of any such settlement within the context of divorce proceedings between the husband and wife. In those circumstances trustees see the possibility of “their assets” being dwindled away in the divorce settlement and, of course, once the property has been transferred out of the trust, there is nothing to stop the recipient of that property from giving more of the trust away and it becoming lost to the family.

Where the trust is UK based, the trustees need to:

Take part in the financial proceedings

Have an understanding of how the matrimonial court would deal with the assets

Be prepared to make reasonable offers

As an idea of how the court would approach these matters one could contrast the case of Miller, where one of the leading family Judges in the UK, Baroness Hales, stated that where couples set up their trust in the course of their existing relationship and choose to isolate funds for the benefit of their wider relations, the court should not interfere unless there was a specific reason.

Equally, a case in 2011 clearly indicated that third-party rights, which would normally be protected within the trust, may have to be altered. Ultimately, the strict terms of the trust are relevant, they are subject to variation and subject to trustees. Beneficiaries should take advice in these cases.

“Huge amounts of costs can be run up unnecessarily in these cases unless the matter can be managed from the earliest possible stage.”

Non-nuptial settlements

An example of a non-nuptial settlement could be where either the husband or wife going through the divorce is the beneficiary of a trust that may have been set up by one of their parents or other relations. Sometimes the soon-to-be divorcing family may have been substantially supported by the trust over many years. There has been a tendency in these cases for the trustees, whose duty is only to one of the spouses, to withdraw all support from the other as that other person no longer legally is directly related to their beneficiary. This creates a lot of problems.

Even though the spouse who has now been cut off is not, and never could be a beneficiary of such a trust, the courts will look at the trust from a standpoint of fairness to the excluded spouse, particularly if the trust has played a part in the lifestyle of the family pre-separation. The means of both individuals independent of the trust is relevant as are historical distributions to the family. In appropriate circumstances, the court will use their powers so as to persuade the trustees to make provision for the non-beneficiary spouse from the trust. Enormous care needs to be taken therefore in acting for a beneficiary who cannot simply assume that because either her husband or wife has no direct interest in the trust that the trust will be ignored for matrimonial purposes.

Again, trustees particularly need to be aware of this possibility and are encouraged by the court to take an active part in the litigation and take sensible views about provision to the spouse out of trust assets. It is not always the case that the trust would hand over trust assets, lock stock and barrel to the non-beneficiary spouse, it is more likely to be balanced to protect the trust and the non-beneficiary spouse at the same time. But this needs careful thought.

Foreign trusts

Where trust assets are abroad and trustees are also abroad, even if the beneficiaries are UK based, the position of the court is made very difficult. There can be enormous practical problems in actually enforcing orders against overseas trusts because the English courts have a much-reduced jurisdiction abroad and trustees can easily protect themselves. The general rule is that UK trustees should take part in divorce litigation is reversed where the Trust is a foreign one and Trustees need to think very carefully about whether they take any active part in it or indeed whether they may get an order in their own courts preventing them taking part.

Needless to say that the whole issue is a complex one, often involving substantial assets. Trustees, beneficiaries and the parties to any such divorce should take legal advice. Huge amounts of costs can be run up unnecessarily in these cases unless the matter can be managed from the earliest possible stage.

If you wish to find out more about the treatment of assets during a divorce, speak to an expert family law and trusts solicitor in your area to discuss your options.